Your Sunday “Week in Review” piece, “10 Years After Tax
Overhaul, the Loopholes Expand,” is hardly news. The only people who thought
the 1986 tax reform was a tax reform were the lawyers and accountants who
rubbed their hands gleefully over the increased complexity of the system
wrought by the act. Supply-siders were horrified to find that Senator
Packwood, chairman of Senate Finance, had agreed to an increase in the capital
gains tax, to 28% from 20%, with no indexing provision. The deal was rushed
though with the enthusiastic support of the liberal wing of the Establishment,
which is no less interested in preserving the status quo than the
Establishment’s conservative wing. All the supply-siders could do was resign
themselves to the fait accompli and vow to come back in the 1988
elections, win a mandate, and roll back and index the capgains rate to 15%. We
actually did that, persuading George Bush to run on a 15%, indexed capgains
rate, and he won in a landslide, but the Establishment conspired against us,
and Bush raised taxes instead. (I refer to those years as “the Darman
Administration.”)

Did you notice, in the recent presidential campaign, that
Steve Forbes repeatedly pledged to drive a stake through the heart of a tax
system that had grown to 7 ˝ million words and was the source of much of the
political corruption in Washington? Ross Perot in 1992 and 1996 pledged a
simplified federal tax system for the same reason. You are right in noting
that Steve Forbes campaigned for a single-rate flat tax. Jack Kemp never did,
although the impression remains that he did. There is no reason in the supply
model not to have more than one rate, as long as the top rate is not above
25%, which is where tax avoidance really begins to escalate. Even Keynes said
that 25% was about the top. Supply-siders of course believe the rich should
pay a disproportionate share of taxes. Why would anyone support the idea that
the poor should be taxed more heavily than the rich? At the heart of any
debate is the Laffer Curve, which is simply the law of diminishing returns
applied to tax policy. If any tax rate is higher than it should be for the
purpose of raising revenue, it is of course suboptimal. The burden of such a
tax may seem to be on the rich, but because the rich find ways to avoid it,
the burden falls on the poor. There is a big difference between the incidence
of a tax and the burden of a tax.

Unless you become familiar with these unintended consequences
of changes in tax law, your obvious bias in favor of closing loopholes that
“benefit the rich” simply contribute to an increase in the tax burden on the
poor. Because you know you have this bias, you should be especially hard on
the arguments of those political people you agree with and open your mind to
those who you know you disagree with.

For example, you report that
Edward N. Wolff of NYU has done research finding that “higher-income taxpayers
are already reaping a growing share of the nation’s economic wealth,” that
between 1983 through 1992, “the richest 20% of the population saw its share of
the nation’s wealth grow to 83.7% from 81.3%.” It is a convenient study for
you to have so readily at hand, but I will bet you an ice cream sundae that it
is full of holes. Did you ask Wolff for a definition of wealth? Does he mix
income and wealth? Does he include government entitlement transfer payments as
a form of wealth? Does he include the increase in future tax liabilities on
the real property of all Americans because capital gains is not indexed? If
you think through the implications of these questions, you may realize you
know less than you should, if you are going to be the Times expert on
these matters.

You quote Ted Forstmann, quite accurately, that we want to
encourage people to become wealthy, not penalize them for that, but you then
go on to pronounce that if we eliminate the capital gains tax, people will
immediately find ways to convert ordinary income into capital gains. Did you
ever think to ask Forstmann if that would be possible? Even the example you
give, which has an employer paying his employes with equity instead of cash
points out the weakness of your argument. It is only possible to have a
capital gain by putting ordinary after-tax income at risk. Once you realize
that, you may understand why the loophole you see has never been a problem in
those countries which have no tax on capital gains. It is a red-herring of the
economics profession. It appears in the textbooks because it gets passed down
from one inept economist to another. Alan Greenspan once told me he spent 20
years trying to find a way to convert ordinary income to a capital gain,
without success. You would realize how difficult it is to pay people with
equity instead of cash when you understand that most capital put at risk
yields a negative return. Most new businesses fail within five years.

The assertion you make at the end of your piece that
exempting investment income from taxation would increase the tax system’s
vulnerability to circumvention is simply an assertion without foundation. By
citing Herbert Stein as your source in your closing paragraph, you give away
your own bias. Stein is the fellow who helped persuade Nixon to double the
capital gains tax in 1969, and when that led to economic recession, Stein was
there to persuade Nixon to float the dollar. If there are ten economists most
responsible for the steady decline in the real incomes of ordinary Americans
over the past 30 years, Stein is an automatic for that list.